Lesson 13 Managerial Accounting: Concepts and Principles

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Lesson 13 Managerial Accounting Concepts and
Principles

• Task Team of
• FUNDAMENTAL ACCOUNTING
• School of Business, Sun Yat-sen University

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Outline

• What is managerial accounting?
• Comparison between managerial accounting and
  financial accounting
• Cost classifications in different ways
• Flow of manufacturing activities
• Job order cost accounting systems and process
  cost accounting systems
• Cost allocation

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Introduction

• The previous 12 chapters focus on the financial
  accounting topics
• Please summarize the basic points of financial
  accounting
• Users/ Time focus/ Emphasis/ Importance/ Subject
  focus/ Requirements
• Thinking
• Is the information provided by financial
  accounting enough for an enterprise to conduct
  its operation and management?
• If not, how to satisfy this demand for the
  internal used information?
• Have you ever heard managerial accounting?

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What is Managerial Accounting?

• An activity that provides financial and
  nonfinancial information to managers and other
  internal decision makers
• Is quite important to planning, control, and
  decision making activities

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The Environment of Managerial Accounting
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Managerial Accounting and Financial Accounting
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Cost Classifications

• Costs can be classified by
• Relevance
• Behaviour
• Controllability
• Traceability
• Function

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Costs Classification by Relevance

• Relevant
• If costs influence a decision
• Costs that are applicable to a particular
  decision.
• Costs that should have a bearing on which
  alternative a manager selects.
• Costs that are avoidable.
• Future costs that differ between alternatives.
• Irrelevant
• If costs do not influence a decision

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Costs Classification by Relevance

• Sunk Costs
• All costs incurred in the past that cannot be
  changed by any decision made now or in the
  future.
• should not be considered in decisions.
• Irrelevant
• Example You bought an automobile that cost
  30,000 two years ago. The 30,000 cost is sunk
  because whether you drive it, park it, trade it,
  or sell it, you cannot change the 30,000 cost.

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Costs Classification by Relevance

• Out-of-pocket costs
• require future outlays of cash
• associated with a particular decision
• relevant for future decisions
• Example Considering the decision to take a
  vacation or stay at home, if you choose a
  vacation, you will only have travel costs
  (out-of-pocket costs).

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Costs Classification by Relevance

• Opportunity Costs
• The potential benefit that is given up when one
  alternative is selected over another.
• Example If you were not attending college or
  university, you could be earning 25,000 per
  year. Your opportunity cost of attending college
  or university for one year is 25,000.

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Costs Classification by Behavior

• Cost behavior refers to
• how a cost will react to changes in the level of
  business activity.
• Fixed costs
• do not change when activity changes.
• Variable costs
• change in proportion to changes in the volume of
  activity

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Costs Classification by Behavior

• Total fixed costs remain unchangedwhen activity
  changes within a relevant range.
• Fixed costs per unit decline as activity
  increases.

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Costs Classification by Behaviour

• Total variable costs change when activity
  changes.
• Variable costs per unit do not change as activity
  increases.

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Costs Classification by Behavior

• Mixed costs
• contain a combination of fixed and variable costs.

Total mixed cost
Variable Sales Commissions
Total Compensation
Fixed Monthly salary
Sales
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Costs Classification by Behaviour

• Step-Wise Costs
• remain fixed over limited ranges of volumes but
  increase by a lump sum when volume increases
  beyond maximum amounts.
• Example additional production supervisors must
  be added when another shift is added.

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Costs Classification by Controllability

• Controllable vs. not controllable
• depends upon the employees responsibilities.
• Example A lower level manager may have control
  over overtime costs but not over the purchase of
  high-cost machinery.

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Costs Classification by Traceability

• Management often traces costs to cost objects
• To obtain a better measure of their total cost
• Cost objects include
• Products
• Services
• Departments
• Divisions
• Customer groups

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Costs Classification by Traceability

• Traceable costs are classified as
• Direct costs
• can be conveniently traced to a unit of product
  or other cost objective.
• Examples salaries of production workers, salary
  of maintenance department employees.
• Indirect costs
• must be allocated to a unit of product or other
  cost objective.
• Examples factory rent, factory light and heat,
  factory accounting costs.

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Costs Classification by Function

• Manufacturing Costs
• are necessary and integral to the production of
  finished goods.
• Examples direct labour, direct materials, and
  manufacturing overhead.
• Non-Manufacturing Costs
• are not integral to the manufacture of finished
  goods.
• Examples selling and administrative expenses.

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Costs Classification by Function
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Costs Classification by Function

• Direct materials
• Materials that are clearly and easily identified
  with a particular product.
• Example Steel used to manufacture an automobile
• Direct labour
• Labour costs that are clearly traceable to, or
  readily identifiable with, the finished product.
• Example Wages paid to an automobile
  assemblyworker.

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Costs Classification by Function

• Manufacturing overhead
• All manufacturing costs except direct material
  and direct labour.
• Manufacturing costs that cannot be traced
  directly to specific units produced.
• Examples
• Indirect labour maintenance
• Indirect material cleaning supplies
• Factory utility costs
• Supervisory costs

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Costs Classification by Function
Manufacturing costs are oftencombined as follows
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Costs Classification by Function

• Non-Manufacturing costs (period costs) are
  expenses not charged to the product.
• Selling Costs
• Costs incurred to obtain customer orders and to
  deliver finished goods to customers advertising
  and shipping.
• Administrative Costs
• Non-manufacturing costs of staff support and
  administrative functions accounting, data
  processing, personnel, research and development.

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Discussions

• ABC company manufactures a portable radio
  designed for mounting on the wall of the
  bathroom. The following list represents some of
  the different types of costs incurred in the
  manufacture of these radios
• The plant manager's salary.
• The cost of heating the plant.
• The cost of heating executive offices.
• The cost of printed circuit boards used in the
  radios.
• Salaries and commissions of company salespersons.

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Discussions

• Depreciation on office equipment used in the
  executive offices.
• Depreciation on production equipment used in
  plant.
• Wages of janitorial personnel who clean the
  plant.
• The cost of insurance on the plant building.
• The cost of electricity to light the plant.
• The cost of electricity to power plant equipment.
• The cost of maintaining and repairing equipment
  in the plant.
• The cost of printing promotional materials for
  trade shows.
• The cost of solder used in assembling the radios.
• The cost of telephone service for the executive
  offices.

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Discussions

• Required
• Classify each of the items above as product cost
  or period costs.

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Discussions the answer
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Flow of Manufacturing Activities
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Job Order Cost Accounting Systems

• Job Order Cost Accounting Systems
• The production of products in response to special
  orders.
• quite flexible in the number of products they can
  produce.
• Jobs involving the production of more than one
  unit of product are called job lots.

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Job Order Cost Accounting Systems
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Job Order Cost Accounting Systems
DirectMaterials
Cost per unit for Job No. 1
Job No. 1
Finished Goods
DirectLabour
Job No. 2
Finished Goods
Cost per unit for Job No. 2
FactoryOverhead
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Process Cost Accounting Systems

• Process Cost Accounting Systems
• Used for production of small, identical, low-
  cost items.
• Mass produced in automated continuous production
  process.
• Costs cannot be directly traced to each unit of
  product.

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Process Cost Accounting Systems
DirectMaterials
FinishedGoods
Process 1
Process 2
DirectLabour
Cost per equivalent unit for Process 1
Cost per equivalent unit for Process 2
Total cost per equivalent unit
FactoryOverhead
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Process Cost Accounting Systems

• Unit cost
• To determine the cost of goods transferred from
  department to department and to finished goods,
  we need to calculate unit cost.
• Unit cost is computed by dividing the accumulated
  costs by the number of equivalent units produced
  in the period.

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Process Cost Accounting Systems

• Costs are accumulated for a period of time by
  process or department.
• Equivalent units is a concept expressing a number
  of partially completed units as a smaller number
  of fully completed units.
• Example Three one-third full pitchers are
  equivalent to one full pitcher.
• Equivalent units may be different for material
  and labour and overhead at different stages of a
  process.

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Comparing Job Order and Process Production

• Similarities
• Same objective
• to determine the cost of products
• Same inventory accounts
• raw materials, goods in process, and finished
  goods
• Same overhead assignment method
• predetermined rate times actual activity

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Comparing Job Order and Process Production
Differences

• Job Order Systems
• Custom orders
• Heterogeneous products
• Low output volume
• High flexibility
• Low to medium standardization

• Process Systems
• Repetitive production
• Homogeneous offerings
• High output volume
• Low product flexibility
• High standardization

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Cost Allocation

• Methods of Overhead Cost Allocation

• Plant-wide Overhead Rate
• Two-stage Cost Allocation
• Activity-based Costing

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Cost Allocation

• Plant-wide Overhead Rate
• A single plant-wide overhead rate is relatively
  easy to use
• but may result in inaccurate product costs

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Cost Allocation

• Two-stage Cost Allocation
• More accurate method than plant-wide
• Stage 1 Allocate service department costs to
  production departments. Service department costs
  are assigned to operating (or production)
  departments.
• Stage 2 Allocate production department costs to
  cost objects. Costs accumulated within operating
  (or production) departments are assigned to cost
  objects.

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Cost Allocation
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Cost Allocation

• Activity-based Costing
• Attempts to better allocate costs to the desired
  cost objects by focusing on activities consumed
  by the cost objects.
• Many activities within a department drive
  overhead costs.
• Products require activities.
• Activities consume resources.

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Cost Allocation

• Activity-based Costing Procedures
• Identify activities that consume resources.
• Assign costs to a cost pool for each activity.
• Identify cost drivers associated with each
  activity.
• Compute overhead rate for each cost pool.

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Cost Allocation

• Activity-based Costing Identifying Cost Drivers
• Most cost drivers are related to either volume or
  complexity of production.
• Examples purchasing, invoicing, quality
  inspection, product design.
• Three factors in choosing a cost driver
• Causal relationship
• Benefits received
• Reasonableness.

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Cost Allocation
Activity-based Costing Cost and Cost Driver
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Cost Allocation

• Activity-based Costing Benefits
• More detailed measures of costs
• Better understanding of activities
• More accurate product costs for . . .
• Pricing decisions
• Product elimination decisions
• Managing activities that cause costs
• Benefits should always be compared with costs of
  implementation

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Summary

• Managerial accounting is quite important to
  planning, control, and decision making
  activities.
• Managerial accounting and financial accounting
  are different in users, time focus, requirements,
  etc.
• Costs can be classified by relevance, behaviour,
  controllability, traceability, and function.
• Flow of manufacturing activities.
• Similarities and differences between job order
  and process cost accounting systems
• The methods of cost allocation plant-wide
  overhead rate, two stage cost allocation,
  activity-based costing

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Case Study

• ABC Company acquired its factory building about
  25 years ago. For a number of years, the company
  has rented out a small, unused part of the
  building. The renter's lease will expire soon.
  Rather than renewing the lease, ABC Company is
  considering using the space itself to manufacture
  a new product. Under this option, the unused
  space will continue to be depreciated on a
  straight-line basis, as in past years.

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Case Study

• Direct materials and direct labour cost for the
  new product is 45 per unit. In order to store
  finished units of the new product, the company
  will rent a small warehouse nearby. The rental
  cost is 1,800 per month. It will cost the
  company an additional 3,500 each month to
  advertise the new product. A new production
  supervisor, hired to oversee production of the
  new product, will be paid 2,500 per month. The
  company will pay a sales commission of 12 for
  each unit of product that is sold.

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Case Study

• Required
• Complete the chart below (in the next page) by
  placing an "?" under each column heading that
  helps to identify the costs listed to the left.
  You can place an "?" under more than one heading
  for a single cost for example, a cost may be a
  product cost, an opportunity cost, and a sunk
  cost you would place an "?" under each of these
  headings on the answer sheet opposite the cost.

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Case Study
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The End of Lesson 13